03/11/13 Covered Call Pick: Qualcomm Inc. (NASDAQ:QCOM)
Qualcomm Inc. (QCOM) is an American-based global semiconductor designer and manufacturer that focuses on digital wireless and telecommunication products and services. They develop both hardware and software that is used in wireless handsets, modem cards, satellite phones, tracking devices, and a variety of other mobile devices. Among notable developments made by the company are a series of patents that control the technology almost solely responsible for the 3G mobile network so widely used across the country. The company's semiconductor mobile chipsets are widely used by popular and well known companies such as Apple, Kyocera, HTC Corporation, Samsung, Motorola, Sharp, LG, Nokia, and Sanyo.
Qualcomm has a market capitalization of $114.51 billion with 1.72 billion outstanding shares.
Qualcomm currently pays a $0.25 dividend for a current yield of 1.5%.
With a beta of 1.20, QCOM currently trades with approximately 20% more volatility than the market.
Last week we recommended a very conservative play on Comcast (NASDAQ:CMCSA), using the purchase of the stock and the sale of a Covered Call to create a "bond-like" investment. This week we are turning the knob the other way and taking a bullish, more aggressive take, on one of the penultimate "mobile" stock plays on the market. Qualcomm has been one of the best positioned companies to take advantage of the tech trend switch to mobile computing through tablets and smartphones. The company reported strong FQ1 earnings with both EPS and revenue beating analyst estimates, and raised their FQ2 guidance. The company is expecting a 21% increase in earnings over 2013 and has been upgraded by a majority of analysts to "Outperform" for the upcoming year. Let us take a look at the reasons why QCOM is positioned to do well this year.
- A growing trend in mobile - Approximately 85% of wireless networks around the world support 3G technology, with an approximate 1.5 billion additional subscribers expected to be added by 2015. The growth of smartphones and mobile computing in emerging markets is growing rapidly, and the wide-spread adaptation of 4G LTE technology that is starting in developed countries ensure that the sweep of upgrades and accelerating technological advances will keep mobile processing an important industry in the years to come.
- Benefits of a diversified client base - Qualcomm has entrenched themselves as the world leader for high-end smartphone semiconductors, allowing them to attract a variety of high profile clients. This gives them a measure of security in a very competitive and fickle business. Even as Apple's iPhone may be falling out of favor with consumers, QCOM has not followed the precipitous drop of Apple's stock, as they also are a major chipset supplier for Samsung - Apple's primary rival and the largest seller of smartphones around the world. Even Microsoft is getting in on the action, collaborating with QCOM to develop chipsets for their notebook, tablets, and Windows Phones. By not putting all their chips in one basket (pun intended) QCOM protects themselves from the flippant trends of trendy tech consumers.
- Technology innovation - With the boon of mobile data traffic, the demand for faster and more powerful mobile processors continues to grow. QCOM's "Snapdragon" processors are currently used in over 600 devices with over 300 Snapdragon devices currently in pipeline at companies around the world. Major clients for their Snapdragon S4 Pro platform include the Google Nexus 4, and the LG Optimus G. Moving forward, their next-generation processors, Snapdragon 600 and 800, with have up to 75% increased performance over their S4 counterparts, and will be the first chips operating on TSMC 28nm technology. It's not important you understand what that means, just that it isnew, fast, and will be in-demand.
Now there are risks to an investment like QCOM. The macro-economic outlook is still poor, which may end up constraining the earnings growth the company is looking for. A miss on earnings could make the stock stumble as fickle investors may dump on any sign of a hiccup. The semiconductor industry is also highly competitive, and despite QCOM's position as top-dog, a technological innovation at another company could lead to a change in the guard. The stock also has a relatively high beta, which means it is prone to big swings as the market the moves, so the stock might not be for everyone.
Yet the stock has an attractive valuation. With a P/E of 17, a Forward of P/E of just under 15, and a PEG Ratio of 0.81 off of the 21% expected earnings growth this year, the company is relatively cheap for where it is positioned and where it is going. Consider that the stock has an Up/Down ratio of greater than one, and a 6% increase over the last twelve months in the number of mutual funds that own the stock, shows there is a great level of support for the chip maker.
Zack's Equity Research currently has a target price on the stock of about $80.00. While we are bullish on the stock, we don't feel quite comfortable reaching that far out-of-the-money with the number of macro concerns currently rolling around. We feel much more comfortable selling the October 2013 $72.50 Call, which will allow us to collect a much more attractive premium and a bit more safety as compared to stretching all the way out to $80. That is why we are recommending buying QCOM and selling the October 2013 $72.50 Call.
- Buy 100 shares of QCOM @ $66.54 = $6,654 + Commission ($12.95) = $6,666.95
- Write 1 QCOM October 2013 $72.50 Call @ $225 - Commission ($8.70) = $216.30
Note: Prices may vary from the time of post. Actual commissions paid will vary returns.
Static Return (Not Called):
(Call + Dividend)/Stock Price X (Days/Year)/Days to Expiration
(2.16 + (2*0.25))/66.67 X (365)/221
= 6.59% Static Return
(Call + Dividend + Strike Price - Stock Price)/Stock Price X (Days/Year)/Days to Expiration
(2.16 + (2*0.25) + 72.50 - 66.67)/66.67 X (365)/221
= 21.03% If-Called Return
Disclosure: Clients and/or principles of OakTree Investment Advisors may or will have an investment in the above positions, but only on the same sides of the trades. The above numbers are analytic estimations based on information known at the time of this post. OakTree Investment Advisors does not guarantee the above, or any, result. All investment decisions should be made based upon individual's personal investment goals and risk tolerance.
Posted by OaktreeAdvisors at 3/11/2013 10:02 AM
Disclosure: I am long QCOM.
Additional disclosure: We are long QCOM in portfolios we manage for our clients at OakTree Investment Advisors